Retail stock therapy - part 2

After making losses for four consecutive years, this Aditya Birla Group retailer finally reported a Rs.53.5 crore profit in FY17 after shuttering 189 marginally profitable or loss-making stores as well as its e-commerce fashion venture ABOF. The key revenue contributors are Pantaloons and Madura Fashion, which has brands like Louis Philippe, Allen Solly, etc. ABFR now also owns the retailing rights for Forever 21, having acquired it from Diana Retail, a subsidiary of DLF Brands, for $26 million.

It had earlier acquired Pantaloons from Future Group in FY13 but the synergy benefits took its own time accruing. Besides the benefits from GST implementation in terms of lower input rates (6% v/s 12.5%), the steady increase in the contribution of high margin private labels (60% of total Pantaloons revenue) has pulled in growth. The Ebitda margin has also improved for Pantaloons from 2.3% in FY14 to 4.9% in FY17.

Madura grew 3.4% in FY17 and its growth has significantly tapered in the past two years. Stiff online competition has affected revenue as Madura is unwilling to sacrifice its margins and give up its premium positioning. It has instead resorted to calibrated discounting by switching from a two-season cycle to a four-season cycle. This is expected to result in faster inventory turnover and also attract new customers. International fast fashion brands such as Zara and Forever 21 have a 45-day cycle.

The management aims to open 50 Pantaloons stores and 150 Madura stores yearly and the majority of store additions will be through the franchisee route to avoid stretching the balance sheet. Under the franchisee model, ABFR does not need to incur capex but the inventory stays on its books. It shut 10% of its exclusive brand outlets as debt has nearly doubled from Rs.1,731 crore in FY13 to Rs.2044.62 crore in FY17. The stock currently trades at 57x FY19 estimated earnings.

Shoppers Stop

The K Raheja group retailer has been in the news for a variety of reasons. Amazon’s investment arm acquired a 5% stake in September 2017 for Rs.179.3 crore, it exited the duty free airport retail business in Bengaluru (disposed 40% of its stake for a consideration of Rs.6 crore) and sold Hypercity to Future Retail in October 2017. In FY17 Hypercity incurred a loss of Rs.83.99 crore after having lost Rs.87.14 crore in FY16. While these decisions will definitely allow the firm to nullify its debt woes, the lackluster results in the past five years and the latest quarter (all formats sales growth was -5.8%, for Q2FY18 and net loss stood at Rs. 21.81 crore in Q2FY18), remain a matter of concern.

The firm’s debt has nearly doubled in the past five years from Rs.498 crore in FY13 to Rs.885 crore in FY17 (debt-to-equity ratio up from 0.99 in FY13 to 1.86 in FY17). The firm has booked losses for four out of the past five years (except FY15 where it showed a profit of Rs.49 crore) and the latest quarterly results also do not signal a turnaround. The firm’s like-to-like sales growth has been volatile, and was at its lowest in FY17, at 3%.

The exclusive tie-up with Amazon India, according to Abneesh Roy, analyst at Edelweiss Securities is a win-win for both the parties. Amazon India and Shoppers Stop have entered into an exclusive partnership for the department store format, whereby Shoppers Stop will list its entire portfolio of 400-plus brands on Amazon. The Amazon experience centers created as part of the arrangement will also allow Amazon to utilise the physical reach (80 stores across 30 cities) of the offline retailer, which in turn could improve footfall as well as private label contribution (14.7% in Q2FY18) for Shoppers Stop.

The divestment in Hypercity will also facilitate increased focus on departmental stores. Shoppers Stop sold its 51.09% stake to Future Retail for Rs.334.6 crore of which Rs.79.2 crore is cash and the rest being stock. Future Retail will also take over Hypercity’s debt of Rs.256 crore. “The debt will be brought down to Rs.492 crore in Q1FY18 and the consolidated Ebidta margin is expected to improve to 8% in FY19, from 3.5% in FY17, as the sale of Hypercity eliminates the 150 basis points drag on the consolidated margins,” adds Roy. Shoppers Stop is currently trading at an EV/Ebidta of 14.4x its FY19 estimated earnings.

Future Retail

After a series of trial and error and significant restructuring, Future Retail seems to have finally gotten its act together. Post incurring a massive loss of Rs.693.82 crore between FY14-15, it made a profit of Rs.368.28 crore in FY17. Future has an unmatched pan India presence (893 stores across 246 cities) and operates across multiple formats including hypermarkets (Big Bazaar), supermarkets (Easy Day) and home segments. It has also successfully re-packaged Big Bazaar from a lowest price retailer to a variety departmental store, combining grocery, apparel, home care and personal care under one roof.

Since Future Retail has been restructured as a pure-play retailer, the frontend (retail) and backend infrastructure operations (assets, investments, etc) have been segregated into two different entities, with the latter named as Future Enterprises. Roy explains that Future Retail has been successfully realigned to an asset-light model that will deliver better return ratios.

The firm’s debt, however, has risen sharply from Rs.183 crore in FY14 to Rs. 1,084.35 crore in FY17. This is despite the transferring of debt of about Rs.4,400 crore to Future Enterprises. While management is hopeful about becoming debt-free over the next five years, Future Retail has added debt of Rs.256 crore after the Hypercity acquisition.

The recent acquisition of Hypercity (19 stores) will also depress the earnings per share (due to equity dilution and lower margins). Baliga perceives it to be an expensive acquisition, and raises concerns regarding the synergy benefits as well. The benefits (in the form of access to metro locations), according to him, are limited by the fact that many Big Bazaar outlets are located in close proximity to Hypercity stores. At its current price of Rs.589, Future Retail trades at 28x FY19 estimated earnings but analysts expect the multiple discount (in comparison with Avenue Supermarts) to narrow.